Options Traders Adapt to Electronic Markets in Pandemic

Options trading volumes and volatility skyrocketed in March as concerns over the COVID-19 virus spread across markets.  When major options exchanges temporarily closed their floors, brokers and market makers were also adjusting to working from home.  In this Q&A, FlexTrade’s Vice President Equity Derivatives Rob Brogan examines the shift to electronic trading, the need for real-time tools for calculating the Greeks, and how FlexTrade supports the demand for ‘volatility trading’ in a fast-moving market.

With the increase in market volatility, extreme amounts of market data have been generated in the options space. What kind of options trading volumes have we seen from the exchanges?

In just 73 days, US options volume topped 2 billion contracts. If we look at the Options Clearing Corp. volume numbers, February 2020 had the highest cleared volume on record at the OCC, that is of course until March 2020 which saw over 660 million contracts cleared.  The volumes have far exceeded anything that we have ever seen before. In fact, if you compare March year-over-year the volumes are drastically different with a 62.8% increase in volume.

When we look at the breakdown of that volume and which options products had the biggest increase, it appears that ETF options volume more than doubled with an increase of 104%.  Index options were a close second with an increase of 81%. These volume numbers are off the charts, but the market data generated from all the quotes and executions related to the volumes is truly unbelievable. The ability to consume and display each individual option symbol for each expiration and each strike from 16 different market centers, was truly a challenge.   Despite the exponential increase in market data required for options, FlexTrade met this challenge head on, providing clients with the live data necessary to meet their trading needs.

The options industry has adapted to remote working conditions because of COVID-19. To prevent the spread of the virus, options exchanges had to close trading floors for the most liquid contracts, and so options trading has migrated to all electronic exchange platforms. How are options traders adjusting to executing without the floor?

When we look at options volumes, traditionally very complex or very large orders have traded in the pits, via open outcry.  These orders have benefited from human interaction and account for approximately 10% of average daily volume.  With the option exchanges temporarily closing down their trading floors due to COVID-19 on March 16, there is no face-to-face interaction and all orders need to be traded electronically. In fact, the electronic auction mechanisms at the Nasdaq and NYSE Amex rose by more than 7%.

Now that many options traders are working remotely and floors are shut down, let’s examine what types of tools are necessary and available for traders to access the high-touch liquidity that they once accessed in the pits.  To grab this liquidity traders now require electronic tools, smart-order routers, spread legging algos, and the ability to access electronic crossing networks.   FlexTrade’s broker neutral order-and-execution management platforms (OMS/EMS) can provide all these tools as well as the ability to monitor the quality of the executions via its TCA product.  These tools that were not previously required, have become a necessity in today’s trading environment.

As markets reacted to concerns about the Covid-19 pandemic, the CBOE Volatility Index (VIX) spiked to new highs not seen since the 2008 financial crisis. How does the surge in volatility compare with other past milestones in historical volatility?

Volatility has spiked to levels not seen since the Global Financial Crisis in 2008 where the VIX soared to a record close of 80.86, only to be outdone by the Pandemic of 2020 where the peak was 82.69. It is not just about the spikes in volatility but the velocity to which the market has moved.  March has brought about several market halts, a gap opening in the S&P 500 in excess of 6%, and multiple 1000 point moves in the Dow Jones industrial Average.

What did we learn from these spikes and fierce market moves? A real-time portfolio management system and live implied volatility calculations are key to understanding your risk in today’s marketplace.  An options trading system must provide real-time position updates, live theoretical value calculations, dynamic Greek calculations and up -to- the second profit-and-loss calculations. It is not only important to calculate these values in real time but also to have the ability to shock each component of the model and make adjustments to the volatility surface in order to run multiple scenarios against the current portfolio. The ability to provide these results in real-time allows traders to modify their positions accordingly.

Many brokers and asset managers rely on FlexTrade’s front-end order-and-execution management systems (OMS/EMS) to get orders into the marketplace.  Given today’s fast-moving markets, what are the ways that options traders can get access to the markets?

It goes without saying, especially during times of high volumes and swift moves in volatility, your trading platform must be reliable and operate efficiently.  It must also have the scale necessary to meet the growing volumes and message rates generated by 16 exchanges. Speed is of the essence in today’s marketplace.  With the velocity of the market and volatility making moves we have not seen since 2008, accessing markets in an automated fashion is not only essential but mandatory if you want to grab the liquidity available on the screen. It’s very important to get orders into the market very quickly and expeditiously.  Our clients are utilizing a number of tools available in our platform to access the market quickly and efficiently to capture the market moves.

The first is through FlexTrade’s API.  Our proprietary API provides traders with a sophisticated way to efficiently push and pull data from the marketplace using a variety of languages (Python, C#, C++, Java, .Net).  The API allows traders the choice to use FlexTrade algos and/or design their own.  The second method is basket trading. We have several traders taking advantage of our vega trader, using it to route a strip of volatility orders to buy/sell a predetermined amount of vega with the click of a button.   The third tool is FlexTrade’s  Flex AlgoWheel. It allows traders to route option contracts using rules based on characteristics such as liquidity, volatility or volume traded.

According to a summary of a recent  Burton-Taylor research report, the volatility landscape is set to see rapid growth in 2020 as rising customer demand is attracting the attention of global banks, market makers and derivatives exchanges.  Are you seeing demand for volatility products from your clients and what types of tools does FlexTrade offer in this space?

I agree with the report and believe the COVID-19 virus has made the need to evaluate volatility risk as well as trade that volatility even more important.  Given that options are priced based on their volatility, traders need real-time implied vol calculations when the market is moving so quickly. FlexTrade is well positioned to not only manage the risk exposure with its dynamic implied volatility calculations and portfolio-management tools but also enables traders to execute volatility with the use of proprietary and broker algorithms.  FlexTrade provides traders a choice when trading volatility. Traders can enter a volatility and have that order dynamically adjust their real-time theoretical value calculations based on a propriety pricing model. Alternatively, traders can enter stock/option reference prices along with a delta and gamma to dynamically adjust the order limit.  No matter the trader’s choice, both algos allow for an underlying hedge, based on a live delta calculation to be sent as soon as the option order is executed. With the focus on monitoring risk in portfolios becoming more important, traders will require these capabilities especially as more sophisticated options traders enter the volatility space in 2020.